Sweeping Legislative Changes Proposed for Foreign Investment in the United States

International Alert

The mood on Capitol Hill in this election year is focused on national security. As we noted in our March 27, 2006 International Alert, the uproar over Dubai Ports World’s proposed acquisition of U.S. port operating contracts has unleashed a flurry of national security-related legislation. Perhaps the most targeted proposal is aimed at the interagency process involved in the Dubai Ports World transaction, namely the national security review of foreign investment in the United States undertaken by the Committee on Foreign Investment in the United States (“CFIUS”). On March 30, 2006, the Senate Banking Committee approved the “Foreign Investment and National Security Act of 2006” (“FINSA”), a proposal that would, for the first time in almost 20 years, significantly overhaul CFIUS national security reviews. The Senate is expected to vote on FINSA in late April, and the House is considering its own proposals.

CFIUS National Security Review Today

National security review of foreign acquisitions of U.S. assets was first formalized in 1988. The “Exon-Florio Amendment” gave the President authority to suspend or prohibit any foreign acquisition, merger or takeover determined to threaten U.S. national security. The President delegated this determination to CFIUS, which is chaired by the Department of the Treasury. The current process officially operates by voluntary notification of a transaction. Upon notification, CFIUS undertakes a 30-day review to determine if the transaction implicates national security. If that test is met, a 45-day investigation is commenced to determine if there is “credible evidence” that the foreign acquirer “may take action that threatens national security.” A 1993 amendment requires CFIUS to conduct an investigation where the acquirer is controlled by, or acting on behalf of, a foreign government. Once an investigation is concluded, a recommendation is made to the President, who may then act to modify or prevent the transaction.

FINSA is the ultimate result of several critical events in the last five years. Principal among them are the events of September 11, 2001 and subsequent efforts to counter terrorism. The ballooning trade deficit with China has also been an important factor. While hundreds of transactions have undergone the initial 30-day review stage, the process has ultimately resulted in only two Presidential decisions, including only one divestment order. The two most recent controversial transactions, the Dubai Ports World transaction and last year’s attempted hostile takeover of Unocal by CNOOC, the Chinese state-owned oil company, were both withdrawn from CFIUS review before 45-day investigations were completed.

Nonetheless, the political storm surrounding the Dubai Ports World transaction led to mounting criticism of CFIUS and the legislative changes now being considered. Recent criticisms of CFIUS echo a 2005 General Accountability Office (“GAO”) report that alleges that CFIUS is focused primarily on maintaining an open investment environment and fails to give sufficient consideration to security concerns. The GAO report suggests that CFIUS review has led to too few investigations and Presidential action, and almost no Congressional notification. In addition, the GAO report complains that the process is secretive, and too fast to afford all agencies sufficient opportunity to establish that a transaction may threaten national security. FINSA purports to rectify these and other concerns.


FINSA formally establishes CFIUS as a reviewing body, reporting directly to the Secretary of the Treasury. In addition to current membership, FINSA adds the Secretary of Defense as a Vice-Chair and includes a direct role for the Director of National Intelligence. Notification of a transaction is still voluntary, unless it involves potential foreign control of “critical infrastructure” relating to national security (and there may be penalties for failure to notify in the latter situation). Upon request by a CFIUS agency, the initial review period may be extended for another 30 days in order to determine whether a complete investigation is warranted.

Further, the bill states that CFIUS must perform mandatory 45-day investigations of transactions that would result in either control of U.S. persons by a foreign government or foreign control of “critical infrastructure,” assuming that the initial 30- day review shows potential impairment of national security. In determining whether national security will be impaired, CFIUS is to consider an expanded list of relevant factors, including identification on export control, arms control, terrorist and other sanctions lists.

The requirement of a mandatory investigation where “critical infrastructure” is involved has raised particular concern in the business community. “Critical infrastructure” is defined in the bill to include “major energy assets” and has been defined even more expansively in other related contexts. For example, the Department of Homeland Security has defined “critical infrastructure” to include substantial sectors of the U.S. economy: agriculture, food, water, public health, emergency services, information and telecommunications, transportation, banking and finance, chemical industry and hazardous materials, postal and shipping, as well as government and the traditional industrial defense base.

There are concerns that other countries will retaliate by limiting U.S. investment in these sectors, which could unintendedly result in harm to U.S. national security interests, especially in the energy sector. Recently, the French government walled off eleven industrial sectors from foreign takeovers because of their “strategic value,” and other European countries have blocked intra- European mergers on grounds that, among others, the entities were in key energy sectors. Europe remains, after Canada and Mexico, the major market for U.S. foreign direct investment.

Other proposed FINSA provisions cited with concern by business groups are: (i) onerous requirements to notify relevant Congressmen and governors of proposed investments; (ii) related concerns about protection of proprietary information; (iii) continued monitoring of transactions withdrawn from CFIUS review; and iv) the fact that Presidential actions under CFIUS are not subject to judicial review. These concerns are in addition to general concerns about the politicization of the process.

Foreign investors must also be cognizant of the risk that third party competitors could use the CFIUS process to interfere with proposed U.S. investments. FINSA’s new Congressional notification provisions and provisions allowing agencies to extend the 30- day review period create more opportunities for third party interference than previously existed.

The proposed changes to CFIUS would result in fundamental changes to the way in which foreign direct investment is transacted in the United States, including any transactions pending at the time of its passage. As FINSA moves forward, business groups will be seeking changes to address concerns that the legislation will chill investment domestically, and limit U.S. investment access to critical sectors abroad. Investors here and abroad should carefully monitor issues such as the definition of “critical infrastructure,” the country ranking list, and Congressional/state notification requirements.

For further information, please contact:

John Davis, jdavis@milchev.com, 202-626-5913

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